For any business, the thrill of securing a sale can quickly turn to frustration if that sale never translates into cash. Are you constantly stressed by unpaid customer debts, uncertain how to effectively manage your debt collection process, and struggling to balance your books?
This guide is for every business owner who understands that true growth isn't just about making sales, but about ensuring those sales actually convert into tangible cash, guaranteeing robust cash flow and financial stability.
This guide will merge fundamental principles with expert-level improvements, helping you build a complete, 7-step process that covers everything from initial customer assessment to collecting cash, including proactive strategies your competitors aren't discussing.
Understanding credit control (and how it works)
Credit control is a strategic way to manage the risks of offering credit. It protects a business's financial health by balancing consistent cash flow with preventing losses from unpaid debts.
At its core, credit control involves a series of measures and strategies aimed at managing credit risk. It encompasses everything from establishing clear credit terms and conditions to conducting rigorous customer creditworthiness assessments. The objective is to strike a balance that allows businesses to extend credit confidently while minimizing the risk of late payments or, worse, bad debt.
Significance in cash flow management
One of the primary reasons credit control is indispensable is its role in cash flow management. Maintaining a healthy cash flow is vital for the day-to-day operations of any business, as it allows companies to cover their expenses and invest in growth.
Effective credit control ensures that payments are received on time, preventing liquidity crises and providing businesses with the financial stability needed to seize opportunities and weather economic downturns.
Preventing bad debt
Bad debt can be a silent killer for businesses, silently eroding profits and undermining financial stability. Credit control acts as a proactive defence mechanism against bad debt by implementing robust credit checks, setting clear credit limits, and taking swift action on overdue payments.
How does credit control work?
Credit control is a systematic process involving several stages to manage extended credit and ensure timely payments. It begins with establishing clear credit policies, including terms and limits, followed by assessing customer creditworthiness through financial reviews.
Once credit is extended, it involves accurate invoicing and diligent tracking of payments. For overdue accounts, collection procedures are implemented, ranging from reminders to legal action. Finally, continuous monitoring of customer payment behavior and periodic review of policies are essential for adapting to market changes and managing risks.
Credit control is not credit management
While often used interchangeably, credit control and credit management are distinct concepts, albeit closely related. Understanding the difference is crucial for effective financial health.
Credit management (the strategy)
Credit management represents the overarching strategic framework for a business's approach to extending credit. It's the "what" and the "why" behind lending decisions. Key aspects of credit management include:
- Risk tolerance: Defining the level of credit risk the company is willing to accept when offering credit to customers. This involves setting parameters for who qualifies for credit and how much.
- Standard payment terms: Establishing the general conditions for payment, such as net 30 days, or early payment discounts.
- Credit policies: Developing broad guidelines that govern all credit-related activities, from initial assessment to collections.
- Strategic objectives: Aligning credit practices with the company's broader business goals, such as market expansion or profit maximization.
In essence, credit management is about setting the rules of engagement for credit, ensuring they align with the company's financial objectives and risk appetite.
Credit control (the process)
Credit control, on the other hand, is the operational execution of the credit management strategy. It's the "how" of making sure credit is extended and repaid according to the established policies. Credit control focuses on the day-to-day activities, including:
- Customer credit assessment: The practical steps taken to evaluate a new customer's creditworthiness, such as performing credit checks, requesting financial statements, and setting credit limits.
- Invoicing and account management: Ensuring accurate and timely invoicing, and meticulously tracking customer accounts to monitor payment status.
- Dunning procedures: Implementing a systematic schedule of communication and actions to pursue overdue payments, from initial reminders to more aggressive collection efforts.
- Dispute resolution: Handling customer queries or disputes related to invoices or payments efficiently to prevent delays.
- Monitoring and reporting: Continuously tracking key performance indicators related to accounts receivable and reporting on payment trends.
Credit control ensures that the strategic decisions made in credit management are effectively put into practice, minimizing financial risk and maximizing cash flow.
Setting up a credit control process
A well-structured credit control process is the backbone of financial stability for any business extending credit. It transforms strategic credit management decisions into actionable steps, ensuring efficient cash flow and minimizing the risk of bad debt.
Establishing clear credit terms and conditions
The foundation of a sound credit control process lies in establishing clear and unambiguous credit terms and conditions. These terms serve as the contractual framework governing the relationship between a business and its customers.
Conducting customer creditworthiness research
Before extending credit, businesses must embark on a journey of thorough research into the creditworthiness of their customers. This involves delving into financial stability, payment histories, and overall reliability.
Implementing systematic invoicing and payment collection processes
Automation is the bedrock of modern credit control. Implementing systematic invoicing and payment collection processes not only reduces the margin for error but also ensures consistency and timeliness in financial transactions.
Training the credit control team
A knowledgeable and skilled credit control team is a linchpin in the credit control process. Investing in comprehensive training equips the team with the tools to navigate the nuances of credit management, including customer communication, dispute resolution, and financial analysis.
Building positive relationships with customers
Contrary to popular belief, credit control is not synonymous with confrontation. Building positive relationships with customers is integral to the credit control process. Effective communication, transparency, and a customer-centric approach foster trust and contribute to smoother transactions.
Automating credit control systems
The digital age offers a plethora of tools and software designed to streamline credit control. Automation not only reduces the risk of human error but also provides real-time insights into the financial health of the business.
Encouraging early payment
Incentivizing early payments through discounts or other favorable terms is a proactive strategy to accelerate cash inflow. This not only benefits the business but also cultivates a culture of timely payments.
Taking swift action on overdue payments
Procrastination in addressing overdue payments can have cascading effects on cash flow. Swift and decisive action, such as sending reminders and initiating follow-up procedures, is critical in preventing overdue payments from escalating into bad debt.
Simplifying the payment process for customers
A frictionless payment process is a win-win for both businesses and customers. Simplifying payment methods and providing user-friendly interfaces contribute to a positive customer experience and increase the likelihood of on-time payments.
Maintaining professionalism and perspective with your credit control process
Late payments are an unfortunate but common aspect of credit control. It's crucial to avoid personalizing these situations. Instead, approach late payments objectively, focusing on solutions and maintaining a professional demeanor.
Strategies for maintaining a professional and objective approach
In emotionally charged situations, maintaining professionalism is paramount. Developing strategies to handle late payments, disputes, and difficult conversations with poise and objectivity enhances the reputation of the business.
Being well-informed and prepared
Knowledge is power in credit control. Being well-informed about industry standards, legal regulations, and the financial health of both the business and its customers provides a solid foundation for making sound credit decisions.
Organizing and accessing credit control data effectively
Efficient organization of credit control data is a prerequisite for effective decision-making. Utilizing tools and platforms, such as Chaser's service for credit control, enhances accessibility and ensures that relevant information is readily available.
Understanding the psychological impact of late payments
Late payments cause significant stress for businesses, impacting emotional well-being, trust, and motivation. Chasing payments leads to burnout for business owners and credit controllers. Customers' late payments can be due to oversight, financial difficulties, or deliberate delay.
Understanding these psychological factors allows for empathetic yet firm collections. Payment behavior is influenced by the customer's perception of the business relationship, financial anxieties, and personal values regarding debt.
7 steps to improve your credit control process
In credit control, "proactive" strategies focus on preventing late payments before they occur, while "reactive" strategies address payments that are already overdue. Proactive measures build strong foundations and relationships to encourage timely payments, whereas reactive measures are the steps taken to recover outstanding debts. A truly effective credit control process blends both approaches seamlessly.
Step 1: Advanced due diligence (before you even offer credit)
Go far beyond basic credit checks. While a traditional credit report provides a financial snapshot, it often misses crucial non-financial red flags. Look for indicators of a business's operational stability and market reputation. Do they have high employee turnover? Are there rumors of supply chain issues or significant leadership changes? These can all impact a company's ability to pay.
Simple due diligence checklist:
Is the business officially registered with relevant authorities? Does their website appear legitimate and professional? Are the contact details (phone, email, physical address) verifiable and consistent across different sources? What do online reviews and industry forums say about their reliability and payment practices? Have you checked for any recent negative news or legal issues related to the company?Step 2: Set crystal-clear terms and onboarding
The foundational step of setting terms ensures both parties understand the financial agreement. It is paramount to have your payment terms explicitly signed and agreed upon by the client before any work or service delivery begins. This prevents misunderstandings and provides a legal basis for collection if issues arise.
The onboarding call: On your first call with a new client's Accounts Payable (AP) department, always ask: "What do you need from us to ensure our invoices are paid on time?" This builds a collaborative relationship, demonstrates your commitment to smooth operations, and can pre-empt potential issues or specific requirements from day one.
Step 3: Create flawless invoicing and proactive communication
The bedrock of efficient credit control lies in flawless invoicing and proactive communication. This dual approach ensures that invoices are not only accurate and timely but also supported by clear, friendly reminders that encourage prompt payment.
Key takeaways:
- Accuracy and timeliness: Ensure all invoices are perfectly accurate, clearly itemized, and sent to the correct person or department immediately upon completion of services or delivery of goods. Mistakes or delays here are common causes of payment hold-ups.
- Friendly Pre-due date reminder: Send a friendly, non-confrontational reminder 3-5 days before the invoice due date. This is one of the single most effective ways to prevent late payments, as it serves as a gentle nudge and helps clients prioritize your invoice without making them feel chased.
Step 4: Have a structured dunning and collections schedule
A structured dunning and collections schedule is critical for ensuring timely payments and minimizing bad debt. This systematic approach involves a series of escalating communications and actions, carefully timed to encourage payment while maintaining positive customer relationships.
Key takeaways:
- Before the due date (Proactive): Beyond the reminder, build a positive relationship with the person in charge of processing your invoices. A quick check-in call or email to ensure they've received the invoice and have no immediate queries can be invaluable.
- Day 1 past due (Reactive - Gentle): Send an automated, gentle reminder email. This email should be polite and assume oversight rather than malicious intent.
- Day 7 past due (Reactive - Firmer): Send a firmer email. This communication should still be professional but clearly state that the invoice is overdue and request immediate payment.
- Day 15 past due (Reactive - Direct): Make the first phone call. A direct conversation can often uncover the reason for the delay and allow for immediate resolution.
- Day 30+ past due (Reactive - Escalation): Begin discussions of payment plans or formal escalation. This might involve sending a letter of demand, involving a collections agency, or considering legal action as a last resort.
Step 5: Establish an efficient query resolution
Efficient query resolution is paramount in credit control. Even minor discrepancies or misunderstandings can lead to significant delays in payment. A dedicated and streamlined process for addressing customer queries related to invoices is therefore essential.
Key takeaways:
- Dedicated process: Have a dedicated and clearly communicated process for handling invoice queries quickly and efficiently. An unresolved query is a legitimate reason for non-payment, and delays in addressing them will inevitably delay your cash flow. Prompt resolution demonstrates professionalism and commitment to service.
Step 6: Payment allocation and reconciliation
Payment allocation and reconciliation are critical for accurate financial tracking and maintaining clear customer accounts. This step involves accurately matching incoming payments to the corresponding invoices.
Key takeaways:
- Prompt matching: Promptly matching incoming payments to the correct invoices is critical. This maintains accurate records, prevents confusion, and ensures your accounts receivable ledger reflects the true financial standing of each client. Delays here can lead to unnecessary follow-ups or misinterpretations of client payment behavior.
Step 7: Maintain clear reporting, analysis, and continuous improvement process
This final step in improving your credit control process is all about leveraging data to refine your strategies. It ensures that your credit control efforts are not static but evolve based on real-world performance and insights.
Key points:
- A/R aging report review: Regularly review your Accounts Receivable (A/R) Aging Report. This report categorizes outstanding invoices by the length of time they have been overdue, providing a clear picture of your cash flow health and identifying specific problem accounts.
- Track Days Sales Outstanding (DSO): Continuously track your Days Sales Outstanding (DSO) metric. DSO measures the average number of days it takes for your company to collect revenue after a sale has been made. A lower DSO indicates more efficient credit control.
- Data-driven adjustments: Use this data to identify chronic late-payers and adjust their credit terms in the future. This could involve reducing credit limits, shortening payment terms, or requiring upfront payments for future orders from consistently problematic clients.
Bonus: Adapting your credit control for international clients
Managing credit for international clients introduces additional complexities beyond those encountered with domestic customers. Different countries have distinct business practices, legal frameworks, and cultural norms around payments that must be carefully considered.
Key points:
- Varying payment cultures: Be acutely aware that payment cultures and expectations around payment times vary significantly across different countries. What might be considered a standard payment period in one region could be unusually long or short in another.
- Currency and fees: Clearly define the currency for payment and explicitly state who is responsible for international transfer fees. Ambiguity here can lead to disputes and payment delays.
- Legal and regulatory differences: It is highly advisable to seek local legal and financial expertise when establishing credit relationships with clients in new international markets to ensure compliance and effective recourse if issues arise.
Consider outsourcing your credit control for improved credit process
Part of being proactive is addressing the situation in front of you. If you don't have the resources to implement effective credit control yourself, then outsourcing might be the solution you're looking for.
An outsourced credit control service can take over the credit management responsibilities from you so that all of your attention can be on growing and improving your business.
There are many benefits to choosing to outsource your credit control, including:
- Having credit checks done on new customers before the contract is signed
- Credit control services can manage your credit terms, including compiling invoices, monitoring overdue accounts and preparing statements
- Reducing risk by keeping a close eye on customer creditworthiness
Wrapping it all up
Ultimately, effective credit control is not just about chasing payments; it's about building a robust financial foundation for your business. By understanding its core principles, implementing a structured process, and continuously refining your strategies, you can minimize risks, improve cash flow, and foster stronger, more reliable customer relationships.
Considering extending credit? Chaser's credit ratings provide vital client financial data, allowing informed decisions.
Book your demo with our experts today to learn more.
